Distressed Long Term Care Assets: Receiverships

It is not a secret that the long term care and senior housing industry continues to experience significant financial distress due to, among other things, the lingering effects of the COVID-19 pandemic and rising interest rates. These continued financial and operational struggles have created challenges for many lenders and owners and operators, but they have also created opportunities for lenders and strategic buyers of distressed assets. An invaluable tool for lenders and distressed asset investors dealing with such challenges and opportunities in the industry is a court receivership sale.

Overview of Receiverships

In a receivership, a state or federal court will, typically on the application of the senior mortgage lender, appoint a “receiver” as a court-appointed neutral to take possession of the property and control over the collateral securing the mortgage loan. The applicable standard required for the appointment of a receiver differs by state. However, most state laws allow for the appointment of a receiver based upon a contractual right (standard clause in most mortgages and deeds of trust) and/or based on an equitable showing (e.g., fraud or waste). In the long term care space, an equitable showing can often be based upon the potential harm to patient care if the lender were to exercise its other rights and remedies under the loan documents (i.e., foreclosure). 

If the standard is met, the court will enter an order appointing the receiver over the facility and other collateral. The receivership order and related motions and agreements should typically be drafted by the lender’s counsel. Ensuring the receivership order is thorough and complete is a critical step at the outset of the receivership process. A well-drafted receivership order should provide, among other things:

• An acknowledgment of the lender’s first-priority, perfected liens;
• The receiver’s complete and exclusive control and authority over operations of the facility, including all tangible and intangible property, cash, and bank accounts;
• Power for the receiver to delegate management and operational tasks to their employees and agents;
• An injunction against the borrower, operator, manager, employees, etc. interfering with the receiver’s exclusive control over the receivership estate;
• Detailed reporting requirements by the receiver to the court and to the secured lender;
• Consent and approval rights for the secured lender to actions taken by the receiver;
• Authority to hire counsel, brokers and other third-party service providers;
• Subject to court approval, the power to market and sell the facility free and clear of any liens, claims or encumbrances; and
• Specific procedures for compensation of the receiver and its counsel.

Upon appointment, and subject to the receivership order and court supervision, the receiver will then operate and manage the facility during the pendency of the court case. Federal and most state laws (and the receivership order) then provide a mechanism for the receiver to, subject to court approval, sell the facility as a going-concern “free and clear” of other liens, claims and encumbrances. For example, 28 U.S.C. § 2001, et seq. authorizes a federal district court to sell property of the receivership estate upon such terms and conditions as the court directs.

Whether a receivership sale is the appropriate mechanism for any particular distressed asset will inevitably be heavily fact dependent. However, lenders and distressed asset investors should be aware of some key considerations and advantages and disadvantages of the receivership process.

Key Considerations Before Pursuing a Receivership

Before pursuing a receivership, secured lenders and potential buyers should consider the following:

• Confirm that the lender has the contractual right to appoint a receiver in the mortgage and other loan documents. Does the applicable state law require an additional equitable showing of fraud, etc.?
• Analyze the current financial performance of the borrower and the facility. Is cash flow from operations sufficient to pay operating expenses and costs and expenses of the receivership? In the event that cash flow is not sufficient to pay these expenses, the secured lender will be required to make protective advances to fund the receivership and ongoing operations.
• Identify an appropriate proposed receiver for the facility. Will the receiver need to take over management and operations completely to stabilize financial performance or will the receiver be able to rely on an existing manager? Will the current operator or manager cooperate in the receivership action? The lender will need to ensure that the proposed receiver has the necessary operational capacity under the circumstances.
• Identify the available and most favorable forum to file the receivership action. Is there federal jurisdiction to pursue a federal receivership? Is the applicable state receivership and/or foreclosure statute favorable to pursuing a receivership sale in state court? Are there properties in multiple states? These and various other considerations must be taken into account to determine the appropriate forum to file the receivership action.

Advantages and Disadvantages of a Receivership

Receivership sales offer several advantages for distressed asset sales, both generally and specifically with respect to long term care facilities. In no specific order, those advantages include:

• Typically, and subject to state-specific rules and regulations, a court-appointed receiver can continue to operate under the existing operator’s applicable skilled nursing, assisted living, or other long term care license during the pendency of the action.
• Unlike in bankruptcy or a private sale, the secured lender can quickly take control over the operations of the facility and put them into the hands of the receiver. This is particularly useful in situations where operational challenges have been caused by fraud and gross mismanagement by the existing management team.
• Reliance on a court-appointed receiver will help insulate the secured lender from lender liability claims for actions taken with respect to the facility.
• Unlike foreclosure or Article 9 UCC sales, the facility can be sold as a “going concern,” including all real and personal property, retention of employees, assumption and assignment of contracts, etc.
• A receivership sale can generally be done quicker and cheaper than through a bankruptcy.

Receiverships are not always a silver bullet, however, and disadvantages also exist:

• While receiverships are often cheaper than bankruptcy, they still impose additional costs and professional fees than an out-of-court sale or restructuring.
• Federal law and most courts require that the sale of the facility be subject to a competitive bidding process. Most bidding procedures in receiverships will provide protections (e.g., break-up fees and minimum bid requirements) to prospective purchasers, but receivers generally cannot agree to exclusivity provisions in an asset purchase agreement.
• Many state receivership laws leave much to the imagination. While the Bankruptcy Code provides a detailed, statutory mechanism for a free and clear sale (11 U.S.C. § 363), many state laws operate more on custom and unwritten rules than codified statutes. Similarly, many judges are less experienced with receivership actions than general litigation matters.

Regardless of the economic environment, there will still be financial opportunities for lenders, investors and other stakeholders in distressed assets in the long term care space, and receivership sales are a critical tool for those looking to take advantages of such opportunities.